Presentation on theme: "Coalition for Derivatives End-Users Briefing of House Committee on Agriculture Staff January 29, 2013."— Presentation transcript:
Coalition for Derivatives End-Users Briefing of House Committee on Agriculture Staff January 29, 2013
2 Coalition Comments on Proposed Rules The Coalition for Derivatives End-Users has submitted comments on proposed rules: – CFTC & SEC joint advance notice of proposed rulemaking on Definitions Contained in Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act – Treasury request for comments on Determination of Foreign Exchange Swaps and Forwards – CFTC proposed rule on Process for Review of Swaps for Mandatory Clearing – CFTC advance notice of proposed rulemaking on Protection of Cleared Swaps Customers Before and After Commodity Broker Bankruptcies – CFTC proposed rule on Real-Time Public Reporting of Swap Transaction Data – CFTC proposed rule on Swap Data Recordkeeping and Reporting Requirements – CFTC & SEC joint proposed rule on Further Entity Definitions – CFTC proposed rule on End-User Exception to Mandatory Clearing of Swaps – CFTC proposed rule on Core Principles and Other Requirements for Swap Execution Facilities – CFTC proposed interpretive order on Antidisruptive Practices Authority – CFTC proposed rule on Swap Data Recordkeeping and Reporting Requirements: Pre-Enactment and Transition Swaps – Prudential Regulators proposed rule on Margin and Capital Requirements for Covered Swap Entities – CFTC proposed rule on Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants – CFTC & SEC joint proposed rule on Further Product Definition – CFTC proposed rule on Clearing Exemption for Swaps Between Certain Affiliated Entities – CFTC proposed interpretive guidance on Cross-Border Application of Certain Swaps Provisions of the CEA – BCBS/IOSCO consultation on Margin Requirements for Uncleared Derivatives – Prudential Regulators proposed rule on Advanced Approaches Risk-based Capital Rule; Market Risk Capital Rule Limited time to comment has limited the Coalitions ability to comment on every rule proposal that affects end-users.
3 New Derivatives Regulation under Title VII : Extraordinary Changes Voice & Manual Systems Electronic Trading Bilateral Risk Management Central Clearing Execution Clearing Reporting Swap Data Repositories Limited Transparency Margin Negotiated Margin Agreements Required Margin Collection
Overview of Swaps Market Under the Dodd-Frank Act Background A swap is the exchange of cash flows between counterparties. – e.g., an interest rate swap (the most common type of swap) is an agreement between two parties to exchange interest rate cash flows (e.g., fixed rate for floating rate), calculated on a notional principal amount, at specified intervals (i.e., payment dates) during the life of the agreement. – Asset classes include: interest rate, credit, equity, foreign exchange and other commodity. Title VII of the Dodd-Frank Act granted jurisdiction of the swaps market to the CFTC and the SEC, with the CFTC having jurisdiction over the vast majority of the swaps market. As a result of Title VII and the CFTCs regulations, all swaps must be reported to swap data repositories (SDRs) and many swaps will be subject to clearing, execution and margin requirements. 4 PARTY APARTY B Fixed Rate Payments (e.g., 5% fixed payment on $100 million) Floating Rate Payments (e.g., 3-month LIBOR on $100 million)
Overview of Swaps Market Under the Dodd-Frank Act Clearing When a swap is executed, the two counterparties can send the trade to the clearinghouse (through a clearing member) and the clearinghouse will assume the legal risk of making payments on the trade (essentially guaranteeing the payments to each of the counterparties). The swap counterparty is required to have an account with a clearing member firm and deposit margin in the account with the clearing member firm. The clearing member firm then interacts directly with the clearinghouse. The margin that must be required to clear a swap is required by clearing rules and not by margin rules. CFTC determines which swaps must be cleared. At this time, interest rate swaps and credit default index swaps are required to begin clearing in March Title VII explicitly provides an exception for end-users to the mandatory clearing requirements. Execution Standardized swaps will be required to be executed on a swap execution facility (SEF) or a designated contract market, as opposed to traditional bilateral contracts. The CFTC has not yet finalized rules for SEFs or for which swaps are required to be executed on a trading platform. Title VII explicitly provides an exception for end-users to the mandatory execution requirements. 5
Overview of Swaps Market Under the Dodd-Frank Act Reporting All swaps, whether cleared or uncleared, must be reported to an SDR, including internal transactions related to the risk management activities within a particular company. Most swap data will be publicly disseminated (on an anonymous basis) for those that want to view or use the data. Margin for Uncleared Swaps Title VII requires that swap dealers be required to collect margin (i.e., collateral) with respect to swaps with certain counterparties. Collecting margin on swaps is aimed at reducing systemic risk. Congress has communicated repeatedly both throughout the legislative process and in the text of the Dodd-Frank Act that end-users should not be subject to margin requirements. 6
7 Apr Oct 2012 NovDecJan 2013 FebMar Definition of swap is effective Becomes unlawful for ECPs to enter off-exchange swaps Reporting and Recordkeeping rules become final MayJunJulAugSepOct Treasury excludes FX from swap definition Swap Dealer Registration Some SD/SMP Reporting and Recordkeeping effective Expected in first half of 2013: Trading, Execution and Block Trade Requirements Cross-Border Guidance Margin Requirements Obtain Unique Identifier Numbers End-User Reporting and Recordkeeping Financial end-users must clear IR and credit default swaps Non- financial end-users must elect clearing exception Implementation Timeline External business conduct standards
How Do End-Users Use Swaps? End-users do not use derivatives to take on risk for speculative investment purposes and therefore do not meaningfully contribute to systemic risk. End-users use swaps to hedge or mitigate commercial risks associated with their companies operations. The use of swaps to hedge risk benefits the global economy by allowing a range of businesses – from manufacturing to health care to agriculture to technology – to improve their planning and forecasting and offer more stable prices to customers. Imposing undue regulatory burdens on end-users could increase costs and reduce liquidity that would prevent end-users from using the derivatives markets efficiently or may cause end-users to stop using derivatives altogether. – Either result is contrary to the clear objectives of Congress who have created exemptions that would allow end-users to continue managing risks in the swaps markets effectively and efficiently. 8
Centralized Hedging Units Creates scale and efficiency while reducing risk Centralizes expertise and consolidates execution Presents single/limited number of faces to the market End-user transaction platform Does not create or increase systemic risk Centralized Model ISDA contracts consolidated with one entity Netting permits a single exposure or credit with the bankruptcy estate Facilitates settlement and resolution Streamlined resolution … less risk Bank A ABC Corp Deriv. Unit ABC Corp US Affiliate Bank B Bank C Traditional swaps » Matched affiliate trades » Enhances safety and efficiency for a broad range of end-users ABC Corp US Affiliate ABC Corp UK Affiliate ABC Corp Asia Affiliate Common control De-centralized Model All ISDA contract counterparties settle separately Some entities would owe the bankruptcy estate …others become unsecured creditors Netting not possible … multiple claims More complicated … greater risk Additional benefits arise in a default scenario Treating inter-affiliate trades like external swaps would push firms back to a decentralized model … increasing risk. 9
Centralized Hedging Units The Dodd-Frank statutory language limits to those centralized hedging units acting on behalf of the person as an agent which the CFTC has interpreted to not include swaps executed by centralized hedging units acting as principal. – Such swaps between the centralized hedging unit (as principal) and a third party would not be eligible for the end-user exception because the centralized hedging unit is considered a financial entity Many end-users that use a centralized hedging unit model execute trades on a principal basis to: – Reduce risk (i.e., fewer external transactions), reduce costs, reduce duplication, centralize oversight of swaps activities, enable netting Treating these two forms of execution differently can create a competitive disadvantage and would discourage end-users from using this proven risk mitigation technique. 10
ABC Hedging Unit Affiliate (Financial) Centralized Hedging Unit Acting as Agent/Principal ABC Corp. (Nonfinancial) Bank Market-facing swaps in name of ABC Corp. (Hedging Unit as agent) Hedging Unit can choose not to clear swaps ABC Corp. (Nonfinancial) ABC Hedging Unit Affiliate (Financial) Bank Market-facing swaps in name of ABC Derivatives Unit (Hedging Unit as principal) Hedging Unit must clear swaps Internal, affiliate trades Agent Principal 11
Inter-Affiliate Trades Characteristics of Inter-Affiliate Trades No change in beneficial ownership. Inter-affiliate transactions do not face the market. Reduces demands on an entitys financial liquidity and operational assets. Inter-affiliate transactions do not create or increase systemic risk. Promotes efficiency in mitigating risk within an entity. ABC Corp Deriv. Unit ABC Corp Affiliate #1 ABC Corp Affiliate #2 Bank $250 MM Notional Floating Rate A $250 MM Notional Fixed Rate B $150 MM Notional Floating Rate A $100 MM Notional Floating Rate A $150 MM Notional Fixed Rate B $100 MM Notional Fixed Rate B ABC Corp. Inter-affiliate trades matched to market-facing swap Market- facing, arms length swap Common Control 12
Relevant Dates for End-User Compliance 13 DateRule/RequirementAction April 10, 2013Reporting and Recordkeeping for all Swap Market Participants (including all end- users) End-users must comply with all reporting and recordkeeping rules (including with respect to inter- affiliate swaps). May 1, 2013External Business Conduct Standard Requirements End-users must amend existing swap documentation in order to continue to trade with swap dealers. June 10, 2013Mandatory Clearing for Financial Entities (including financial end-users and centralized hedging units) Centralized hedging units operating on behalf of non-financial affiliates would be required to clear at this time. Mid-2013 (expected)Margin for Uncleared SwapsFinal rules from the Prudential Regulators and the CFTC that could impose margin requirements on end-users. September 9, 2013Mandatory Clearing for All Swap Market Participants (including non-financial end- users) Non-financial end-users will be required to either elect the end-user exception or clear their swaps.
Companies and organizations that support various initiatives of the Coalition for Derivatives End-Users 3M A&D Insight, LLC Acadia Realty Trust AES Corporation Air Products and Chemicals, Inc. Alcoa Allegheny Energy Allegheny Technologies Incorporated Alliant Energy Corp. Allstate Insurance Company AMB Property Corporation AMC Entertainment Inc. Ameren Services American Adhesive Coatings Company American Electric Power American Residential Communities Anadarko Petroleum Corporation Applied Materials, Inc. ARAMARK Corporation Archer Daniels Midland Company Ashford Hospitality Trust Associated Estates Atmos Energy Avista Ball Corporation Bayer Corporation Black Diamond Minerals, LLC Black Hills Corporation Blyth, Inc. Bobrick Washroom Equipment, Inc. Bolton Emerson Americas Boston Scientific Corporation BP America Cabot Corporation Cargill, Inc. Caribbean Property Group Caterpillar Inc. Chatham Financial Chesapeake Energy Corporation CIP Real Estate CMS Energy CNL Financial Group Columbia Sussex Corporation Conoco-Phillips Community Health Systems Compass Minerals ConAgra Foods, Inc. ConGlobal Industries Constellation Energy Cordillera Energy Partners III, LLC Craton Capital Management, LLC CSC Cummins Inc. Cybex International Inc. Daimler Dean Foods Company Deere & Company Devon Energy Corporation Dominion Donahue Schriber Realty Group L.P. Douglas Emmett Duke Energy DuPont Company DuPont Fabros Technology Dynegy Inc. Eagle Rock Energy Partners, L.P. Eaton Corporation Ecolab Inc. Edison International El Paso Corporation Emdeon Enbridge Energy Company, Inc. EnCana Oil & Gas (USA) Inc. Energy Future Holdings Corp. Entertainment Properties Trust EOG Resources, Inc. Exelon Corporation First Capitol Ag FMC Corporation Ford Motor Company Forest City Enterprises, Inc. Formation Capital FPL Group Gavilon, LLC General Electric Company General Mills General Motors GID Investment Advisers LLC Glimcher Realty Trust Golden Living Goodrich Corporation Hampshire Real Estate HCA Inc. HCR ManorCare Health Care REIT, Inc. Heritage Feeders, L.P. Hersha Hospitality Trust Hess Corporation Hewlett-Packard Company Honda Honeywell Host Hotels & Resorts, Inc. Hyundai Capital America / Hyundai Motor Finance Company IBM Jungs Station Associates Kansas City Power & Light Company KBS Real Estate Investment Trust, Inc. Kelly-Moore Paint Co., Inc. Kerzner Istithmar Limited Kilroy Realty Corporation Legacy Partners Residential, Inc. Lexmark International, Inc. LINN Energy Lockheed Martin Loews Corporation McDonalds Corporation Marlin Steel Wire Products, LLC Medtronic, Inc. Microsoft Corporation Mid-America Apartment Communities, Inc. MidAmerican Energy Holdings Company MillerCoors MVP Management Corporation National Grid National Gypsum Company National Retail Properties, Inc. Nationwide Insurance Newfield Exploration Company Nissan North America, Inc. Novation Partners Novelis Inc. Ocean Properties LTD. Occidental Petroleum Corp. ONEOK, Inc. Peabody Energy PepsiCo, Inc. Portland General Electric Principal Financial Group Prudential Financial, Inc. Public Service Enterprise Group Puget Sound Energy Quadrangle Development Corporation Questar Corporation Regency Centers Corporation Rolls-Royce North America Ryder System, Inc. Sealed Air Corporation Shell Energy North America Siemens Simon Property Group Simons Petroleum, Inc. Southern Union Gas Services, Ltd. Southwestern Energy Company Sprinkle Financial Consultants LLC St. Mary Land & Exploration Co. Strategic Hotels & Resorts, Inc. Superior Graphite Co. Superior Woodcraft, Inc. Swift Energy Company Targa Resources, Inc. Teradata Corporation The AES Corporation The Boeing Company The Commonwealth Group The Dow Chemical Company The Durst Organization The JBG Companies The Procter & Gamble Company The Timken Company The Walt Disney Company Thomas Properties Group, Inc. Timberlane Village Associates Time Warner Toyota UM Holdings Ltd United Technologies Corporation Vectra Management Group Vermeer Volvo W. R. Grace Walker Center Associates, LLC Wal-Mart Stores, Inc. Weingarten Realty Investors Whirlpool Whiting Petroleum Corporation Xcel Energy Xerox Corporation Zilber Ltd Zimmer, Inc. Aerospace Industries Association of America, Inc. Agricultural Retailers Association American Forest & Paper Association American Cotton Shippers Association American Farm Bureau Federation American Gas Association American Petroleum Institute American Soybean Association Associated Industries of Massachusetts Association for Finance Professionals Business Roundtable Commodity Markets Council Edison Electric Institute Financial Executives International Independent Petroleum Association of America Independent Petroleum Association of Mountain States Mississippi Manufacturers Association National Association of Corporate Treasurers National Association of Manufacturers National Association of Real Estate Investment Trusts National Association of Wheat Growers National Corn Growers Association National Council of Farmer Cooperatives National Grain & Feed Association Natural Gas Supply Association National Mining Association Texas Independent Producers and Royalty Owners Association Texas Oil & Gas Association Texas Pipeline Association The Information Technology Industry Council The Real Estate Roundtable U.S. Chamber of Commerce Companies Organizations